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At the same time, paying cash dividends decreases shareholders’ equity because it affects the company’s assets. As stated earlier, retained earnings at the beginning of the period are actually the previous year’s retained earnings. This can be found in the balance of the previous year, under the shareholder’s equity section on the liability side. Since in our example, December 2019 is the current year for which retained earnings need to be calculated, December 2018 would be the previous year. Thus, retained earnings balance as of December 31, 2018, would be the beginning period retained earnings for the year 2019. This is the net profit or net loss figure of the current accounting period, for which retained earnings amount is to be calculated.
Companies will also usually issue a percentage of all their stock as a dividend (i.e. a 5% stock dividend means you’re giving away 5% of the company’s equity). Sometimes when a company wants to reward its shareholders retained earnings on balance sheet with a dividend without giving away any cash, it issues what’s called a stock dividend. While they may seem similar, it is crucial to understand that retained earnings are not the same as cash flow.
Beginning of Period Retained Earnings
The steps to calculate a company’s retained earnings in the current period are as follows. Any item that impacts net income (or net loss) will impact the retained earnings. Such items include sales revenue, cost of goods sold (COGS), depreciation, and necessary operating expenses. For example, during the period from September 2016 through September 2020, Apple Inc.’s (AAPL) stock price rose from around $28 to around $112 per share. During the same period, the total earnings per share (EPS) was $13.61, while the total dividend paid out by the company was $3.38 per share.
Since company A made a net profit of $30,000, therefore, we will add $30,000 to $100,000. The retained earnings amount can also be used for share repurchase to improve the value of your company stock. But while the first scenario is a cause for concern, a negative balance could also result from an aggressive dividend payout – e.g. dividend recapitalization in LBOs. Below is a short video explanation to help you understand the importance of retained earnings from an accounting perspective. If the company is experiencing a net loss on their Income Statement, then the net loss is subtracted from the existing retained earnings. There are businesses with more complex balance sheets that include more line items and numbers.
Retained Earnings
On the other hand, when a company generates surplus income, a portion of the long-term shareholders may expect some regular income in the form of dividends as a reward for putting their money in the company. Traders who look for short-term gains may also prefer dividend payments that offer instant gains. Keep in mind that if your company experiences a net loss, you may also have a negative retained earnings balance, depending on the beginning balance used when creating the retained earnings statement. It is surplus cash from a company’s profits in a specified period that is commonly reinvested in the business to reduce debt, bolster future profits and/or promote the company’s growth.
